PROVISIONS RESPECTING THE BEST PRICE OBLIGATION

Transcription

1 Rules Notice Notice of Approval UMIR Please distribute internally to: Legal and Compliance Trading Desk Contact: James E. Twiss Vice President, Market Regulation Policy Telephone: Fax: April 17, 2009 PROVISIONS RESPECTING THE BEST PRICE OBLIGATION Summary This IIROC Rules Notice provides notice of the approval by the applicable securities regulatory authorities (the Recognizing Regulators ) of amendments to the Universal Market Integrity Rules ( UMIR ) respecting various aspects of the best price obligation ( Interim Amendments ). The Interim Amendments became effective on May 16, 2008, the date the proposals related to the Interim Amendments were published. 1 The best price obligation requires a Participant to make reasonable efforts to fill better-priced orders displayed on a protected marketplace at the time the Participant executes at an inferior price on another marketplace or foreign organized regulated market. In particular, the Interim Amendments provide that the Market Regulator will accept that a Participant has made reasonable efforts to comply with the best price obligation if the Participant has: entered the order on a marketplace that will ensure compliance with the best price obligation; used an acceptable order router; or provided the order to another Participant for entry on a marketplace. 1 Market Integrity Notice Request for Comments Provisions Respecting the Best Price Obligation (May 16, 2008).

2 If a Participant uses another means to enter an order on a marketplace, the Interim Amendments expand the factors that may be taken into account by IIROC in determining whether a Participant has made reasonable efforts to obtain the best available prices on a protected marketplace 2. The factors have been expanded to include whether: the protected marketplace recently launched operations; order information from the protected marketplace is available through a data vendor used by the Participant; the protected marketplace has recently had a material malfunction or interruption of services; and the protected marketplace has demonstrated an inordinate proportion of inferior fills with respect to tradeable orders routed to it. The Interim Amendments also remove transaction costs as a factor in determining the best price obligation and clarify that reasonable efforts do not require a Participant to maintain a connection to each protected marketplace. Each Participant must adopt policies and procedures to ensure compliance with its best price obligation, which will include the relevant factors upon which it is relying in making trading decisions. Each Participant must review its policies and procedures on an ongoing basis to reflect changes to the trading environment and market structure. With the approval of the Interim Amendments, IIROC will continue to monitor the steps which each Participant has taken to be in a position to comply with the best price obligation. Since the introduction of multiple protected marketplaces in 2007, IIROC (including its predecessor, Market Regulation Services Inc.) has been understanding of the difficulties faced by Participants (as a result of issues with systems, service providers, data vendors and marketplaces) and has worked with Participants to identify their problems and has encouraged the development and implementation of appropriate plans to address the problems. If a Participant continues to account for a disproportionately greater share of the instances where better-priced orders have not been protected in comparison to the overall share of trading by the Participant and IIROC concludes that the imbalance is due to the fact that the Participant has not made reasonable efforts to develop and implement a plan, IIROC will initiate appropriate disciplinary proceedings. Proposed CSA Trade-through Protection Rule The Canadian Securities Administrators ( CSA ) have proposed changes to National Instrument Marketplace Operation ( Marketplace Operation Instrument ) and National Instrument Market Integrity Notice Amendment Approval Provisions Respecting Off-Marketplace Trades (May 16, 2008) provided notice of the approval by the Recognizing Regulators of various amendments to UMIR including the adoption of a definition of protected marketplace as a marketplace that: disseminates order data in real-time and electronically through one or more information vendors in accordance with the Marketplace Operation Instrument; permits dealers to have access to trading in the capacity as agent; provides fully-automated electronic order entry; and provides fully-automated order matching and trade execution. IIROC Notice Rules Notice Notice of Approval - UMIR - Provisions Respecting the Best Price Obligation 2

3 Trading Rules ( Trading Rules ) regarding trade-through protection ( Proposed CSA Trade-through Protection Rule ) 3. Depending upon the final form of this trade-through regime, conforming changes may be required to UMIR, in particular to the best price obligation under Rule 5.2 as modified by the Interim Amendments. 4 On October 27, 2008, IIROC published for comment proposed amendments to UMIR that would be consequential to the implementation of the Proposed CSA Trade-through Protection Rule. If the Proposed CSA Trade-through Protection Rule is adopted in substantially the published form, IIROC would expect UMIR to be amended to: repeal the rule and policies respecting the best price obligation of Participants; and make a number of consequential changes to UMIR including: o o the repeal of the provisions regarding the best price obligation from the rules and policies dealing with trading supervision and gatekeeper reports, and confirmation that the best execution obligation is subject to the trade-through protection obligation (in the same manner that it had been subject to the best price obligation). Until the Marketplace Operation Instrument and Trading Rules are amended to provide for trade-through protection and amendments have been made to UMIR respecting the implementation of trade-through protection, Participants remain subject to the best price obligation under Rule 5.2 of UMIR as modified by the Interim Amendments. Background to the Interim Amendments Impact of the Amendments Respecting Off-Marketplace Trades Concurrent with the original publication for comment of the Interim Amendments, IIROC published Market Integrity Notice Amendment Approval Provisions Respecting Off-Marketplace Trades (May 16, 2008) which provided notice that various amendments to UMIR ( Off-Marketplace Amendments) became effective May 16, 2008 that, among other changes: adopted the definition of a protected marketplace as a marketplace that: o o o disseminates order data in real-time and electronically through one or more information vendors in accordance with the Marketplace Operation Instrument, permits dealers to have access to trading in the capacity as agent, provides fully-automated electronic order entry, and 3 4 Canadian Securities Administrators Notice, Notice of Proposed Amendments to National Instrument Marketplace Operation and National Instrument Trading Rules, (2008) 31 OSCB Those proposed amendments build upon proposals contained in a joint notice by the CSA and Market Regulation Services Inc. See Market Integrity Notice Request for Comments Joint Canadian Securities Administrators/Market Regulation Services Inc. Notice on Trade-Through Protection, Best Execution and Access to Marketplaces (April 20, 2007). IIROC Notice Rules Notice Request for Comments UMIR Provisions Respecting Implementation of Trade-through Protection (October 27, 2008.) IIROC Notice Rules Notice Notice of Approval - UMIR - Provisions Respecting the Best Price Obligation 3

4 o provides fully-automated order matching and trade execution; incorporated into Rule 5.2, the guidance of IIROC that the best price obligation arises at the time of the execution of an order; 5 eliminated the distinction between active and passive orders when determining which orders owe a best price obligation; confirmed that the obligation of a Participant to fill better-priced orders is not limited by the size of the trade executed by the Participant; and specifically provided that a Participant will be considered to have taken reasonable efforts to obtain the best price if, at the time of the execution of the order on a particular marketplace or foreign organized regulated market, the Participant enters orders on behalf of the client, nonclient or principal account on each other protected marketplace and such orders have a sufficient volume and are at a price to fill the then disclosed volume 6 on that protected marketplace. Status of Current Marketplaces as Protected Marketplaces Of the current marketplaces, only Alpha, Chi-X, CNSX (including Pure Trading), Omega, TSX and TSXV meet all four conditions to qualify as a protected marketplace. None of Bloomberg, Liquidnet and MATCH Now qualify as a protected marketplace. A Participant has an obligation to execute against better-priced orders on Alpha, Chi-X, CNSX, Omega, Pure Trading, TSX and TSXV before executing at an inferior price on any marketplace or foreign organized regulated market. For a description of the basic features of each these marketplaces, see Summary Comparison of Current Equity Marketplaces available on the IIROC website: A Participant owes a best price obligation to only the visible portion of a better-priced order on a protected marketplace. If a marketplace permits the entry of an iceberg order for which only a portion of the volume is disclosed, no best price obligation is owed to the portion of the order that is not visible at the time the Participant is determining its obligation under Rule 5.2. At the present time, iceberg orders are permitted on Alpha, CNSX, Pure Trading, TSX and TSXV. 5 6 Rule 5.2 previously provided that the Participant was to make reasonable efforts prior to the execution of an order but IIROC had issued guidance on the interpretation of this requirement. See Market Integrity Notice Guidance Securities Trading on Multiple Marketplaces (September 1, 2006). The term disclosed volume is defined as including the volume of orders on a protected marketplace at a price better than the price of the intended trade but excludes: the undisclosed portion of any iceberg order; a Basis Order; a Call Market Order; a Market-on-Close Order; an Opening Order; a Special Terms Order; or a Volume-Weighted Average Price Order. IIROC Notice Rules Notice Notice of Approval - UMIR - Provisions Respecting the Best Price Obligation 4

5 If a protected marketplace has visible orders but the marketplace is not open for trading at that time, the best price obligation does not apply to such orders. A Participant may trade at any time taking into account all visible orders on marketplaces then open for trading. The best price obligation does apply to a special trading facility of a marketplace that conducts trading before or after regular trading hours if orders in such special facility are visible. Description of the Interim Amendments The best price obligation requires a Participant to make reasonable efforts to fill better-priced orders displayed on a protected marketplace at the time the Participant executes at an inferior price on another marketplace or foreign organized regulated market. The Interim Amendments: set out certain order handling methods which will be considered to be reasonable efforts ; expand on the factors that IIROC will take into account in determining whether reasonable efforts have been made if a Participant is using an order handling method other than one which is automatically considered reasonable efforts ; provide specific requirements for each Participant to adopt policies and procedures to ensure compliance with the best price obligation; clarify that reasonable efforts does not require a Participant to maintain a connection to each protected marketplace; and remove transaction costs as a factor to be taken into consideration in determining compliance with the best price obligation. The Interim Amendments were effective as of May 16, 2008 and the Interim Amendments have been approved by the Recognizing Regulators without any revisions to the text published for comment on May 16, The following is a summary of the principal components of the Interim Amendments: Order Handling Methods That Are Automatically Considered Reasonable Efforts The Interim Amendments provide that the Market Regulator will accept that a Participant has made reasonable efforts to comply with the best price obligation if the Participant has: entered the order on a marketplace that will ensure compliance with the best price obligation; used an acceptable order router; or provided the order to another Participant for entry on a marketplace. Reliance on Marketplace Router or Functionality A Participant will be considered to have taken reasonable efforts to satisfy its best price obligation in respect of a particular order if the Participant has entered the order on a marketplace that has taken IIROC Notice Rules Notice Notice of Approval - UMIR - Provisions Respecting the Best Price Obligation 5

6 reasonable efforts to obtain order information from each protected marketplace and that will, upon receipt of the order: route all or any part of the order required to comply with Rule 5.2 to a protected marketplace; execute the order at a price that will comply with Rule 5.2; or automatically vary the price of the order to a price that will comply with Rule 5.2. IIROC expects that the Participant will monitor and document the performance of any marketplace order router or marketplace trading system functionality. If the Participant becomes aware that the marketplace is failing to handle orders in a manner that will comply with Rule 5.2, the Participant can no longer rely on the arrangements with that marketplace to demonstrate reasonable efforts to obtain the best price. IIROC expects that a marketplace which makes a router or functionality available to Participants to comply with their best price obligation will devote sufficient resources to the upgrade and maintenance of the router or functionality to be able to incorporate new protected marketplaces as they become available. In particular, IIROC expects that the marketplace will have taken reasonable efforts to obtain order information from each protected marketplace. IIROC expects that a marketplace offering these routers or functionality will obtain the order information either directly from the protected marketplace or from an information vendor. A marketplace would not be required to take into account a particular protected marketplace if order information from that particular protected marketplace is not available in a form and format that readily permits the use of such order information in the trading system of the marketplace. IIROC does not expect that each marketplace offering these routers or functionality will be in a position to integrate information from any new protected marketplace on its launch date. In the ordinary course, IIROC would expect that a marketplace should have integrated the new protected marketplace into its router or functionality within 90 days of the launch of the new marketplace. Unless IIROC has granted an exemption to a marketplace, if the marketplace has not integrated the new protected marketplace into its router or functionality within 90 days of launch of the new marketplace, a Participant would no longer be able to rely on its arrangements with the marketplace to demonstrate reasonable efforts to obtain the best price. IIROC recognizes that, in certain circumstances, a marketplace may on a temporary basis cease taking into account orders on a particular protected marketplace as a result of interruption of service or the unavailability of quotes on the particular protected marketplace. For a discussion of IIROC s expectations in these circumstances, see Interruption of Marketplace Service on pages 9 and 10 and Unavailability of Quotes on pages 11 and 12. Reliance on Smart Order Router Technology A Participant will be considered to have taken reasonable efforts to satisfy its best price obligation in respect of a particular order if the Participant has entered the order on a marketplace using an order router developed and operated by the Participant or a service provider if: the order router has demonstrated an ability to access any order on a protected marketplace required to comply with Rule 5.2; and IIROC Notice Rules Notice Notice of Approval - UMIR - Provisions Respecting the Best Price Obligation 6

7 the Participant or service provider has taken reasonable efforts to obtain order information from each protected marketplace. IIROC expects that the Participant or service provider will monitor the performance of their order router to ensure that the router is performing adequately. In particular, IIROC expects that with the launch of a new marketplace which qualifies as a protected marketplace the performance of the order router will be re-evaluated. If a Participant proposes to rely on the use of an order router developed and operated by the Participant or a service provider, IIROC expects that the Participant or service provider will make reasonable efforts to obtain order information from each protected marketplace. For a discussion of IIROC s expectations of reasonable efforts in this context, see Availability of Marketplace Data on pages 10 and 11. IIROC recognizes that, in certain circumstances, an order router may on a temporary basis cease taking into account orders on a particular protected marketplace as a result of interruption of service or the unavailability of quotes on the particular protected marketplace. For a discussion of IIROC s expectations in these circumstances, see Interruption of Marketplace Service on pages 9 and 10 and Unavailability of Quotes on pages 11 and 12. Reliance on Another Participant If a Participant routes orders to another Participant for entry on a marketplace, IIROC will consider the first Participant to have complied with their best price obligations and will look to the second Participant to ensure that reasonable efforts are undertaken to obtain best price. The Participant that receives an order from another Participant as part of an introducing/carrying broker arrangement or as an individual jitney order takes on the obligation to undertake reasonable efforts to obtain the best price on the execution of the order in accordance with the other requirements of Rule 5.2. Additional Factors to be Considered When Using Other Order Handling Methods If a Participant uses a means to enter an order on a marketplace other than one of the methods which will be automatically considered to comply with the best price obligation, the Interim Amendments expand the factors that may be taken into account by IIROC in determining whether a Participant has made reasonable efforts to obtain the best available prices on a protected marketplace. For example, these additional factors will be relevant if a Participant uses an order router that does not meet the requirements described above under the heading Reliance on Smart Order Router Technology or if the Participant has decided to manually route a particular order or a particular component of its order flow. Under the Interim Amendments, the additional factors that IIROC may take into account include the following: IIROC Notice Rules Notice Notice of Approval - UMIR - Provisions Respecting the Best Price Obligation 7

8 Launch of a New Marketplace IIROC acknowledges that a significant lead time is required for Participants, information vendors, service providers and other marketplaces to be able to adapt all of their systems to accommodate the introduction of a new protected marketplace. The lead time that is required reflects the need for coordination and the reality that all parties have other priorities and commitments with respect to their systems and technology initiatives. Section 12.3 of the Marketplace Operation Instrument provides that a new marketplace must provide at least two months public notice of technology requirements regarding interfacing with or access to the marketplace and that they must make testing facilities available to the public at least one month prior to the launch of trading operations. The longer the period of time that such technology specifications and testing facilities are available to the public prior to the launch of operations the easier for all market participants to adapt their systems to accommodate the launch of the new protected marketplace. IIROC also recognizes there is a degree of uncertainty regarding whether new marketplaces are able to meet announced launch timeframes and there is some reluctance to make the required investments and commitments to systems and technology until the commencement of trading operations is either certain or in fact a reality. In connection with the launch of a new marketplace, if no or minimal testing is performed by the marketplace prior to launch, there will be a period after launch during which Participants may wish to assess the capacity, integrity and security of marketplace systems before directing order flow to such marketplace. The Interim Amendments include as a relevant factor whether the protected marketplace provided testing facilities to the public for a sufficient period of time prior to launch in accordance with section 12.3 of the Marketplace Operation Instrument. If a new protected marketplace made testing facilities available for a sufficient period of time prior to launch, the Participant would be expected to take orders from the new protected marketplace into account and to obtain the best available price on that marketplace. In the view of IIROC, a reasonable period of time during which to accommodate the launch of a new protected marketplace would be the longer of: three months following the launch of the new protected marketplace; and six months following the date that testing facilities were available to the public in accordance with section 12.3 of the Marketplace Operation Instrument. As such, if a new protected marketplace provided only the minimum of one month for the availability of testing facilities as required by section 12.3 of the Marketplace Operation Instrument, IIROC would consider a reasonable period to be five months from the launch of the new protected marketplace before a Participant would be expected to fill better-priced orders on the new protected marketplace. Interruption of Marketplace Service IIROC will take into account as a relevant factor whether the protected marketplace has recently had a material malfunction or interruption of services. This factor may be taken into account in a decision by a Participant to initially connect to the protected marketplace or to continue to direct order flow to that particular protected marketplace. IIROC Notice Rules Notice Notice of Approval - UMIR - Provisions Respecting the Best Price Obligation 8

9 If, in the course of ongoing marketplace operations, a Participant experiences an interruption of service with a particular protected marketplace, IIROC would expect that the Participant would document the nature of the interruption and the provision of notice of the interruption to the protected marketplace, any relevant service provider used by the Participant and the technology staff of the Participant so that the causes of the interruption could be identified and the responsible party could take remedial action. If a protected marketplace has experienced a material malfunction or interruption of service on any trading day, IIROC would not expect the Participant, depending upon the circumstances, to take that marketplace into account for the balance of the trading day should trading resume on that marketplace. For example, if the interruption was momentary as the marketplace moved trading to its back-up systems or if the nature and duration of the interruption of service are known at the outset of the interruption of service and the marketplace resumes trading as scheduled, the Participant would be expected to take that marketplace into account on the resumption of trading. If the Participant has experienced persistent or prolonged material malfunctions or interruptions of service, including delays in: the processing of orders; the execution of trades; the communication of the status of orders or trades; or the dissemination to the applicable data vendor of order or trade information, the Participant would not be expected to route orders to such marketplace until such time as the protected marketplace had demonstrated that its systems are reliable and fully-functioning. Participants are required to continue to monitor the system performance of the marketplace and to once again take into account best available prices on that marketplace once it has returned to normal operations. As a general guideline, IIROC would view malfunctions or interruptions of service which affects the ability of a Participant to conduct trading on a marketplace on three days in any thirty day period to constitute a material malfunction or interruption of service that is persistent or prolonged. In these circumstances, IIROC would accept that a Participant was acting reasonably if the Participant did not route further orders to that protected marketplace until such time as the protected marketplace had demonstrated that its systems are reliable and fully-functioning. Once a Participant has determined that a particular protected marketplace was having persistent or prolonged material malfunctions or interruptions of service, IIROC would expect that the Participant would continue to monitor and document the system performance of that marketplace and, as a general guideline, IIROC would expect that a Participant would consider orders on that marketplace if there has not been a material malfunction or interruption of service for a period of at least thirty days and consideration of that marketplace is not otherwise excluded by the application of one of the other factors. IIROC acknowledges that information on the reliability and status of a marketplace system may not be readily available 7 and that a Participant may have to rely on representations made by the marketplace. 7 Marketplace information may become available if the CSA proceeds with amendments to the Marketplace Operation Instrument to require periodic reports of market quality information. See proposed Part 11.1 of the Marketplace Operation Instrument in Canadian Securities Administrators Notice, Notice of Proposed Amendments to National Instrument Marketplace Operation and National Instrument Trading Rules, (2008) 31 OSCB 10033, IIROC Notice Rules Notice Notice of Approval - UMIR - Provisions Respecting the Best Price Obligation 9

10 Availability of Marketplace Data IIROC will take into account as a relevant factor whether order information from the protected marketplace is available through an information vendor used by the Participant in a form and format that readily permits the use of such order information in the trading systems of the Participant. In the absence of an information processor and a single official consolidated market display, IIROC acknowledges that each Participant must rely on one or more information vendors to provide order and trade information from the various marketplaces trading a particular security. IIROC is aware that not all information vendors make information available from all marketplaces, or even all protected marketplaces. IIROC expects that a Participant will request their information vendors to access the data of all protected marketplaces. IIROC recognizes that a reasonable period of time is required to permit a Participant to integrate additional data feeds (whether from an existing information vendor or an additional information vendor) into the trading system of the Participant. If an information vendor used by the Participant makes order and trade information available from a particular protected marketplace, IIROC would expect, in the ordinary course, that the Participant would take steps to be able to integrate that data into the trading systems of the Participant within 90 days following the date that the information vendor is first able to make the data available. If the Participant is not able to integrate the data within that time period, IIROC would expect that the Participant would document the steps which the Participant and the information vendor had taken prior to the expiry of the 90-day period in order to be able to demonstrate that they had diligently pursued the integration of the data as part of the reasonable efforts to comply with the best price obligation of the Participant. If the information vendor used by a Participant does not make available order information from a particular protected marketplace in a format that can be readily integrated into the Participant s systems and the Participant determines that the trading activity on that particular marketplace is such that the Participant must consider that particular marketplace in accordance with its best execution obligations under Rule 5.1 8, IIROC would expect that the Participant would make alternate arrangements with information vendors in order to obtain information on orders and trades on that protected marketplace. In the ordinary course, IIROC would expect that the Participant would implement these arrangements within 90 days following the date the Participant determined that the protected marketplace must be considered in accordance with the Participant s best execution obligations. Once again, if the Participant is not able to enter a new arrangement and integrate the data within that time period, IIROC would expect that the Participant would document the steps which the Participant and the information vendor had taken prior to the expiry of the 90-day period in order to be able to demonstrate that they had diligently pursued the integration of the data from the particular protected marketplace. Unavailability of Quotes 8 Reference is made to Rule 5.1 Best Execution Obligation on pages 8 and 9 of Market Integrity Notice Guidance Securities Trading on Multiple Marketplaces (September 1, 2006). IIROC expects that each Participant will monitor of trading activity on each marketplace for the purpose of determining whether the marketplace should be considered for compliance with the best execution obligation. IIROC also expects each Participant to document their analysis of trading activity on each marketplace that supports their decisions. See Adoption of Policies and Procedures on pages 13 and 14. IIROC Notice Rules Notice Notice of Approval - UMIR - Provisions Respecting the Best Price Obligation 10

11 Compliance with the best price obligation is measured by reference to the information which was available to the Participant at the time of the entry of an order. Given the speed at which trades occur and at which orders are entered, changed or cancelled, a Participant cannot necessarily execute with every order that appeared to be available at the time the Participant decided which marketplace to access. However, if a protected marketplace has demonstrated that, of the immediately tradeable orders sent to that particular protected marketplace, an inordinate proportion of: market orders are executed at a worse price than indicated on that marketplace at the time the decision was made to route the order to that particular protected marketplace; and limit orders fail to execute for the price and volume indicated on that marketplace at the time the decision was made to route the order to that particular protected marketplace, a Participant may take this factor into account when determining whether to connect to or otherwise obtain access to that marketplace. IIROC acknowledges that information on the fill rates of a particular marketplace may not be readily available and that a Participant may have to rely on representations made by the marketplace. Adverse results for immediately tradeable orders would be expected to occur on a marketplace that does not have sufficient depth of book to support the trading of average or above-average sized orders of liquid securities. Participants who intend to rely on this factor when making order routing decisions must monitor their fill rates for orders entered on the various protected marketplaces. A Participant would be expected to continue to monitor and document the trading activity on a protected marketplace which it had stopped utilizing due to the unavailability of quotes. If the monitoring discloses that trading activity on a particular marketplace has matured to the level that the marketplace has a demonstrated capacity to handle small or average size orders for a specific security, the Participant must consider order information from such marketplace in making reasonable efforts to comply with the best price obligation. Adherence to Policies and Procedures In determining if a Participant has undertaken reasonable efforts in obtaining best price, regardless of the method chosen by the Participant to enter orders on a marketplace, IIROC will consider whether the Participant has followed the policies and procedures regarding the best price obligation which the Participant has adopted in accordance with Rule 7.1 of UMIR. (See Adoption of Policies and Procedures on page 13 and 14.) In conducting a trade desk review or other inquiry to determine whether the Participant has undertaken reasonable efforts to obtain the best price, IIROC will first ascertain whether the Participant s policies and procedures are adequate to ensure compliance with the best price obligation and then whether the Participant has followed those policies and procedures. In particular, the trade desk review will be looking to determine whether a Participant has monitored and documented: trading activity levels on each marketplace (including any marketplace which the Participant has stopped utilizing due to the unavailability of quotes); the performance of any marketplace router or functionality which the Participant has relied on to satisfy best price obligations; IIROC Notice Rules Notice Notice of Approval - UMIR - Provisions Respecting the Best Price Obligation 11

12 the performance of any smart order router or functionality developed and operated by the Participant or a service provider and on which the Participant has relied on to satisfy best price obligations; and the system performance of any protected marketplace that the Participant has determined has had a material malfunction or interruption of service. Additional Unspecified Factors The Interim Amendments provide that IIROC may consider additional factors beyond those specifically listed in Policy 5.2. Such additional factors may be a response to a number of developments including the emergence of new marketplaces, the introduction of new functionality by marketplaces or the recognition of a single consolidated market display produced by an information processor. If IIROC proposes to take into consideration a factor which is not specifically listed in Policy 5.2, IIROC will provide guidance on the application of such new factor through the issuance of a Rules Notice at least 90 days prior to the date that IIROC proposes to take such new factor into account. Adoption of Policies and Procedures Rule 7.1 requires each Participant to adopt written policies and procedures to be followed by directors, officers, partners and employees of the Participant that are adequate, taking into account the business and affairs of the Participant, to ensure compliance with the requirements of UMIR, including the best price obligation under Rule 5.2. IIROC expects that each Participant will have adopted policies and procedures which set out the steps or process to constitute the reasonable efforts that the Participant will take to ensure that orders receive the best price when executed on a marketplace. These policies and procedures must address the factors which the Participant will take into account: initially in determining whether orders on a protected marketplace need to be considered; and on an on-going basis once the Participant has determined that orders on a particular protected marketplace should be considered. The policies and procedures adopted by the Participant must take into account the relevant factors and other requirements set out in Policy 5.2 giving effect to the Interim Amendments. IIROC acknowledges that each Participant may also take into account additional factors which are reasonable and of particular importance to the type of business conducted by the Participant. However, any additional factors identified by a Participant must not be inconsistent with the requirements set out in Policy 5.2 or the provisions of the Marketplace Operation Instrument. For example, section 12.3 of the Marketplace Operation Instrument establishes minimum standards to be met by new marketplaces with respect to the availability of technical information and testing facilities. In addition, section 12.1 of the Marketplace Operation Instrument sets out requirements regarding the capacity of the trading system of a marketplace. Finally, the relevant factors enumerated in Part 1 of Policy 5.2 as provided by the Interim Amendments allow a Participant to take into account the actual operational performance of a protected marketplace. In these circumstances, IIROC would consider it unreasonable for a Participant to adopt as part of its policies and procedures a provision which would IIROC Notice Rules Notice Notice of Approval - UMIR - Provisions Respecting the Best Price Obligation 12

13 allow the Participant to disregard order information from a marketplace that did not have a minimum number of successful industry wide tests prior to launch or did not have certain redundancies or back-up capacity. IIROC expects that each Participant will re-evaluate the appropriateness of its policies and procedures with the launch of each new marketplace, particularly a marketplace that qualifies as a protected marketplace. IIROC also expects that each Participant will monitor and document the levels of trading activity on each marketplace taken into account by the Participant in determining whether to establish or to maintain access to a particular marketplace (either for compliance with the best price obligation or the best execution obligation). In particular, if a Participant has ceased to take into account orders from a particular protected marketplace as a result of an interruption of marketplace services or the unavailability of quotes, the policies and procedures should indicate how the Participant will monitor and document developments on that particular protected marketplace that would be relevant to determining when orders on that particular protected marketplace should once again be taken into consideration for the purposes of complying with the best price obligation. On a monthly and quarterly basis, IIROC makes publicly available summary data on trading activity on each marketplace related to the percentage of trades, volume and value of each of the marketplaces regulated by IIROC. The summary is available on the IIROC website (at and may be accessed on the homepage under the heading Marketplaces We Regulate. Connectivity to Marketplaces Rule 5.2 requires Participants to make reasonable efforts to fill better-priced orders on a protected marketplace before executing a trade at an inferior price on another marketplace or foreign market. IIROC has indicated in previous guidance that UMIR does not require that a Participant maintain trading access to every Canadian marketplace on which a security may trade. The Interim Amendments have amended the provisions of Part 1 of Policy 5.2 to specifically confirm that making reasonable efforts to obtain best price does not require that a Participant become a member, user or subscriber of each protected marketplace. If a Participant directs its order flow to a marketplace that offers a smart order router that will route, upon receipt, all or any part of an order entered by the Participant to a protected marketplace with better-priced orders to comply with the Rule 5.2, IIROC will consider the Participant to have complied with their best price obligations. In order to access the marketplace router, the marketplace may require that the Participant be a member, user or subscriber of each protected marketplace to which orders may be routed. Alternatively, the marketplace (or a Participant acting on its behalf) may itself be a member, user or subscriber of each protected marketplace and the marketplace may take on the responsibility for the order in a manner comparable to that of a jitney. In this latter case, since the particular marketplace has taken on the responsibility to consider prices on protected marketplaces and to access those protected marketplaces, the Participant would not be required to determine whether to directly connect to any new protected marketplace or to indirectly access any new protected marketplace through a Participant that had access to that marketplace. IIROC Notice Rules Notice Notice of Approval - UMIR - Provisions Respecting the Best Price Obligation 13

14 Transaction Costs On July 18, 2008, IIROC published notice of the approval by the Recognizing Regulators of various amendments to UMIR regarding the best execution obligation that became effective on September 12, Under the amendments, one of the general factors to be taken into account under the best execution obligation is the overall cost of the transaction. 9 In setting out the Proposed CSA Trade-through Protection Rule, the CSA requested comment on whether there should be a maximum amount that a marketplace would be able to charge for access to a quote for trade-through purposes. 10 In contemplation of the change to the best execution requirements and the proposed cap on trading fees under the Proposed CSA Trade-through Protection Rule, the Interim Amendments repealed the factor under Part 1 of Policy 5.2 that allows the consideration of the transaction costs and other costs that would be associated with executing the trade on a marketplace. With the repeal of this factor, each Participant when following its policies and procedures to obtain the best price will take account of the price of the orders displayed by each of the protected marketplaces without regard to any transaction fee that would be payable or any rebate or fee that may be earned if the order was executed on a particular marketplace. The repeal of this factor simplifies the logic for determining which marketplace an order should be routed to as the decision will now be made by comparing only the displayed prices on each of the protected marketplaces subject to the application of the factors identified in the Policy to Rule 5.2. Summary of the Impact of the Interim Amendments The most significant impacts of the adoption of the Interim Amendments are: confirmation that reasonable efforts does not automatically require a Participant to have a direct connection to each protected marketplace; providing that each Participant must adopt policies and procedures for obtaining best price which must take into account the factors set out in Policy 5.2 together with other factors that are relevant to the business conducted by the Participant; providing that a Participant will be considered to have made reasonable efforts if the Participant has entered the order using an acceptable order router or similar facility operated by the Participant, a service provider, marketplace or other Participant; expanding the factors taken into account in determining whether a Participant has made reasonable efforts to obtain the best available prices to include whether: order information from the protected marketplace is available through a data vendor used by the Participant, the protected marketplace has recently launched operations or had any material malfunction or interruption of services,. 9 IIROC Notice Rules Notice Notice of Approval UMIR Provisions Respecting Best Execution (July 18, 2008) 10 Canadian Securities Administrators Notice, Notice of Proposed Amendments to National Instrument Marketplace Operation and National Instrument Trading Rules, (2008) 31 OSCB 10033, In particular, Question 5 asked: Should the CSA set an upper limit on fees that can be charged to access an order for trade-through purposes? IIROC Notice Rules Notice Notice of Approval - UMIR - Provisions Respecting the Best Price Obligation 14

15 the protected marketplace has demonstrated an inordinate proportion of inferior fills with respect tradeable orders routed to it; and removing differences in transaction costs between protected marketplaces as a factor that may be taken into account in determining whether a Participant has made reasonable efforts. Appendices Appendix A sets out the text of the Interim Amendments to the Rules and Policies respecting the best price obligation; and Appendix B sets out a summary of the comment letters received in response to the Request for Comments on the Interim Amendments as set out in Market Integrity Notice Request for Comments Provisions Respecting the Best Price Obligation (May 16, 2008). Appendix B also sets out the response of IIROC to the comments received and provides additional commentary on the Amendments. The Interim Amendments as approved by the Recognizing Regulators did not make any revisions to the text published in the Request for Comments. Appendix B also contains the text of the relevant provisions of the Rules and Policies as they read following the adoption of the Interim Amendments. IIROC Notice Rules Notice Notice of Approval - UMIR - Provisions Respecting the Best Price Obligation 15

16 Appendix A Provisions Respecting the Best Price Obligations The Universal Market Integrity Rules are hereby amended as follows: 1. Subsection (3) of Rule 5.3 is repealed. The Policies to the Universal Market Integrity Rules are hereby amended as follows: 1. Part 1 of Policy 5.2 is deleted and the following substituted: Part 1 Qualification of Obligation The best price obligation imposed by Rule 5.2 is subject to the qualification that a Participant make reasonable efforts to ensure that an order receives the best price. Reasonable efforts does not require that a Participant become a member, user or subscriber of each protected marketplace. The Market Regulator will accept that a Participant has made reasonable efforts to obtain the best price if the Participant: enters the order on a marketplace by means of an order router developed and operated by the Participant or a service provider if: o o the order router has demonstrated an ability to access orders on a protected marketplace, and the Participant or service provider has taken reasonable efforts to obtain order information from each protected marketplace, enters the order on a marketplace that has taken reasonable efforts to obtain order information from each protected marketplace and that, in accordance with the arrangements between the Participant and the marketplace, will, upon receipt of the order: o o o route all or any part of the order required to comply with Rule 5.2 to a protected marketplace, execute the order at a price that will comply with Rule 5.2, or automatically vary the price of the order to a price that will comply with Rule 5.2; or provides the order to another Participant for entry on a marketplace. In determining whether a Participant has made reasonable efforts in other circumstances, the Market Regulator will consider, among other factors: IIROC Notice Rules Notice Notice of Approval - UMIR - Provisions Respecting the Best Price Obligation 16

17 Factors Related to Initial Consideration of a Particular Marketplace whether the marketplace qualifies as a protected marketplace ; whether the protected marketplace has recently: o o commenced operations, or had any material malfunction or interruption of service; whether, in the absence of an information processor, a data vendor used by the Participant has made order information from the protected marketplace available in a form and format that readily permits the use of such order information in the trading systems of the Participant; and whether the Participant has followed the policies and procedures adopted by the Participant for determining whether orders on a protected marketplace need to be initially considered. Factors Related to On-going Compliance whether a better-priced order is on a protected marketplace which the Participant has determined to consider in accordance with the policies and procedures adopted by the Participant for determining whether orders on a protected marketplace need to be initially considered; whether the Participant has experienced: o o disruptions in trading activity as a result of any material malfunction or interruption of service of a particular protected marketplace, or an inordinate proportion of immediately tradeable orders entered on a particular protected marketplace being executed at an inferior price to that displayed at the time the order was entered by the Participant or not being executed or being executed only in part for a volume less than that displayed at the time the order was entered by the Participant; and whether the Participant has followed the policies and procedures adopted by the Participant for determining whether orders on a protected marketplace need to be considered on an on-going basis. 2. Policy 7.1 is amended by adding the following as Part 6: Part 6 Specific Provisions Respecting the Best Price Obligation Each Participant must adopt written policies and procedures that are adequate, taking into account the business and affairs of the Participant, to ensure compliance with the best price obligation. The policies and procedures must set out the steps or process to be followed by the Participant that constitute the reasonable efforts that the Participant will take to ensure that orders receive the best price when executed on a IIROC Notice Rules Notice Notice of Approval - UMIR - Provisions Respecting the Best Price Obligation 17